Award Ceremony Speech

Robert Lucas is the social scientist who has had the greatest
influence on macroeconomic research since 1970. The main
objective of macroeconomic research is to study fluctuations in
total production, employment and inflation. Lucas's contributions
have transformed macroeconomic analysis and deepened our
understanding of economic policy. They have led to a more
realistic appreciation of what economic policy can, and cannot,
achieve. Lucas has also given us more reliable methods to
evaluate the effects of changing economic policy.

A recurrent theme in Lucas's work is the
importance of expectations. Lucas postulated that households,
firms and organizations use available information in an efficient
way. This hypothesis of rational expectations has had
far-reaching consequences for macroeconomic analysis.

The change in our understanding of the
Phillips curve is an excellent example of Lucas's contributions.
The Phillips curve, named after its discoverer, a British
economist, displays a positive relation between inflation and
employment. In the late 1960s, there was considerable empirical
support for the Phillips curve; it was regarded as one of the
more stable relationships in economics. It was generally
interpreted as an option for governments and central banks to
bring about a permanent increase in employment by pursuing an
expansionary policy that results in more inflation.

However, in an analysis carried out around
1970, Lucas used the concept of rational expectations to
demonstrate that employment could definitely not be permanently
increased by allowing inflation to rise. Although Lucas was able
to explain why the Phillips curve appeared to have so much
empirical support, he could also show that any attempt to exploit
the Phillips curve and permanently increase employment by
systematically creating higher inflation would be futile.
According to Lucas's analysis, the Phillips curve would not
remain stable; it would shift when expectations adjusted to
higher rates of inflation.

This was not merely an academic subtlety,
as was soon demonstrated in practice. During the 1970s
governments and central banks in many countries allowed inflation
to soar, in order to achieve high employment. In accordance with
the theory, there was no sustained increase in employment; the
Phillips curve shifted, as Lucas had predicted.

This gives rise to two important policy
conclusions. The first is that there are no permanent gains to
society from high inflation. On the contrary, high inflation has
sustained drawbacks. By now, this conclusion is generally
accepted and has become the foundation for the monetary policy
pursued in several countries, including Sweden, which aim at
achieving low and stable inflation. The second conclusion is that
high unemployment and low employment can be successfully remedied
only by other means than inflationary monetary and fiscal policy,
for instance by structural measures to make the labor market and
wage formation function more efficiently.

The fate of the Phillips curve demonstrates
the dangers in uncritically using a statistical relationship to
draw economic-policy conclusions. The insights into these dangers
were developed further in the so-called Lucas Critique. Lucas
showed that not only the Phillips curve, but several other
significant relationships that had previously been considered
stable (for instance, the dependence of consumption and
investments on wages, interest rates and taxes) on closer
examination are likely to change due to shifts in economic
policy. Hence, economic-policy conclusions based on these
relationships are not reliable.

But Lucas was not content with these
negative implications. Instead, he proposed new theoretical and
statistical methods that avoid these pitfalls and can serve as
the foundation for more reliable evaluation of the consequences
of altering economic policy. Nowadays, these are commonly
accepted methods which are used regularly in analysis of economic
policy. In addition to his work in macroeconomics, Lucas has made
outstanding contributions to several other research fields than
macroeconomics, such as monetary theory, financial economics,
public economics and economic growth. In each of these fields,
Lucas's work has given research a new direction and generated an
extensive new literature.

Dear Professor Lucas,

Your development and application of the theory of rational
expectations has fundamentally transformed macroeconomic
analysis. It has deepened our understanding of economic policy.
Your work has also had a profound impact on research in several
other fields of economics. It is a privilege and an honor to
convey to you my warmest congratulations, on behalf of the Royal
Swedish Academy of Sciences. Please step forward to receive the
Prize from His Majesty the King.